“I place economy among the first and most important republican virtues, and public debt as the greatest of the dangers to be feared. To preserve our independence, we must not let our rulers load us with perpetual debt.” (Thomas Jefferson)

I was reluctant to waste time commenting on the debt ceiling and ‘spending cuts’ farce, but here it goes anyway…

Washington provided us with quite a spectacle this summer; first the tantrums in the debt ceiling debate, followed by the finger pointing and blame shifting in the aftermath of the Standard & Poor’s downgrade of long term US credit rating from AAA to AA+.

Regardless of how much – or rather little – credibility the S&P has left, the downgrade should not have surprised anyone, nor was it unjustified. Sure, the US is unlikely to default on its debt (after all, it can count on the printing press magic), but nobody seriously believes it will pay its creditors the $14.6 trillion (and counting) in anything but devalued currency.

Instead of confronting the problems, politicians aim at postponing any painful remedies ad infinitum, while debts continue to snowball. According to recent Congressional Budget Office projections (based on unrealistically rosy GDP growth forecasts) the national debt will grow by $9.5 trillion over the next 10 years. Even if the reductions proposed in the debt ceiling deal were to be implemented, the US would still accumulate $7.1 trillion in new debt by 2021!

The debt ceiling deal (allowing Obama to borrow a further $2.4 trillion – just enough to carry him to the end of his first term) and fight about a meager $2.4 trillion in “spending cuts” over a decade denounce an inability or unwillingness to face reality.

Does anyone truly think that $2.4 trillion “spending cuts” spread over 10 years will do anything to solve the problem when US federal debt stands at some $100 trillion, including the unfunded entitlement liabilities that lurk beneath the debt ocean?

(Not to mention, even the $2.4 trillion are heavily back-loaded, so the vast majority of these cuts won’t be implemented by the current Congress. The deal calls for a laughable $25 billion of savings in 2012 – in a $3.8 trillion budget! – and some $47 billion in 2013.)

Only politicians, intellectuals and academics would want to fix a debt crisis by issuing yet more debt. The problem wasn’t too low a debt ceiling but too high a debt. Yet far from attempting to remedy that… what Washington spent months arguing about are not even actual spending cuts – they are cuts in the rate of increase in spending. For anyone with half a functioning brain cell, cutting the projected rate of spending growth does not equal a spending cut!

It is also rather disingenuous of the politicians and media to talk about a $14.6 trillion national debt, when the true figure – including unfunded liabilities (Medicare, Medicaid and Social Security) – stands somewhere between $80 and 100 trillion (depending on estimates). While it’s true that people have been making payments for Social Security and Medicare, those earmarked funds have over the decades been plundered by both parties to pay for wasteful, vote-grabbing spending.

The reality nobody wants to acknowledge is that the US government has been on a historically unprecedented spending binge, accumulating debts for seven decades, and that the welfare state – enthusiastically embraced by Americans since the 1960s – has bankrupted the country just as European welfare states have bankrupted most of the old continent.

The truth is, neither party wants to do much to cut public spending. Laughably, Obama and the Democrats found the scapegoat for their failure to meaningfully cut spending (and the subsequent ratings downgrade) in the Tea Party, when Tea Party politicians have been the only ones taking the debt problem seriously.

If one wanted to cast blame, it would appear we mostly have the Democrats to thank for the gigantic entitlement liabilities of a welfare state that has created mass dependency on the government and destroyed the values that made America strong (self-reliance, industriousness, family, traditional morality): FDR’s Social Security, LBJ’s Medicare and Medicaid. (You can also include Obamacare – yet another under-funded, dependence-creating monstrosity.)

Entitlement reform (i.e. large-scale entitlement cuts) is absolutely essential if the US is ever to get its debt and deficit crisis under control. The Congressional Budget Office estimated that by 2025 all of the government’s income will go to entitlement spending and interest payments, leaving nothing for any other expenditures.

Debt reduction and balancing the budget can not be done without significant pain. The problem is, Americans (government and citizens) have lived so far above their means for so long that meaningful belt tightening holds little appeal. Hence poll after poll has shown people’s theoretical support for the idea of balancing the budget and cutting spending – provided they don’t have to bear the consequences. (Everyone agrees with spending cuts as long as their own programs and entitlements are not touched, and the 51% of Americans who pay no income taxes gladly approve of a higher-still tax burden for the ‘rich’ but not a much needed broadening of the tax base.)

The chances of the US voluntarily making a dent in that $100 or so trillion debt mountain are precisely zero. The government will do whatever it takes to keep the party going, which most likely means borrowing, printing, inflating and shifting debts onto future generations. Eventually, and quite inevitably, the country will default on its internal obligations to its citizens (i.e. Social Security, Medicare promises).

In the meantime, the massive $1 trillion+ annual deficits are here to stay for years to come. Borrow, tax and spend is what politicians do. More spending means more votes, especially once more than half the population has become reliant on government largesse. Federal government is now a giant wealth-transfer machine, taking money from a shrinking number of taxpayers and handing it out to a growing list of dependents.


“Payments to individuals” (Social Security, Medicare, Medicaid, public assistance, food assistance, housing assistance, unemployment assistance and student assistance) account for nearly 70% of total federal spending – the highest rate in history. The US now pays out more in benefits than it collects in taxes. More than half of Americans (59%) receive a Government payout in one form or another. Government transfer payments account for 18.4% of personal income.

National debt – at $14.6 trillion – has now surpassed 100% of GDP. The government currently borrows about 43 cents for every dollar it spends.  In 192 years – from George Washington to Ronald Reagan – US government accumulated only $1 trillion of debt. In the last 30 years it has added $13.6 trillion in additional debt. (When G.W. Bush took office the debt was just under $5.8 trillion. By the time he left office, it had nearly doubled, to $10.6 trillion. Under Obama it’s already at $14.6 trillion – a staggering $4 trillion increase in just two and a half years.)

The government has, in the last few decades, been piling up debts at an unprecedented speed, creating more and more bureaucracy, employing ever larger percentage of American workers and ensnaring countless millions into welfare dependency. More recently, it spent trillions of dollars on stimulus and QE I + II, with the sole result of greatly increasing the levels of debt.

The problem is relatively easy to grasp – the US spends vastly more than it earns. As such, the solution is simple as well, at least theoretically. All we’d need are enlightened voters willing to accept short term suffering for the sake of their (and their children’s) long term prosperity, and principled politicians willing to do the right thing even if it was to cost them reelection. Well, I did say theoretically simple.

Thanks to a huge expansion of entitlement spending over the decades, the debt the US has piled up is too large for the country to be able to grow or tax its way out of it. The focus has to be on massive spending cuts. Paring back entitlement programs should be accompanied by scaling down of the public sector, as well as a tax reform. The tax code should be simplified, loopholes, exemptions and deductions eliminated, the tax base broadened and tax rates cut for individuals and corporations alike. (A flat tax would be better still.) Lifting some of the crushing burden of bureaucracy, regulation, counterproductive taxation and immoral, dependency-creating entitlements would revive the growth-generating dynamism and industriousness the US used to be known for.

Unfortunately mass democracy doesn’t lend itself to doing unpleasant things for the sake of a better future.

——

It is not just the US. The entitlement nations of Europe have too, for decades, been spending more than they earned. And, much like in the US, the so-called spending cuts are, more often than not, merely cuts in the rate of spending increase. Welfare is still booming, and politicians – while paying lip service to slashing spending – are as set on voter-pleasing as ever.

It’s been three days and three nights now that London has been burning, and there is no end in sight. An orgy of violence, destruction and looting has been raging across the capital; gangs of mostly black youths continue to smash up and plunder shops, vandalize and torch properties and set cars ablaze.

Yet politicians and much of the media (including the BBC, the bastion of political correctness) persist in ignoring the facts while dishing out fashionable propaganda. And so gang members and criminals become poor, misunderstood and ‘socially deprived’ young people, and looting and violence are justified as alleged consequence of government spending cuts, poverty and inequality. Not surprisingly, the fact that vast majority of these savages (sorry, disadvantaged youths) belong to certain protected minorities has barely been noted by our PC, diversity-worshipping media and politicians.

Let’s put things straight. Spending cuts (which are in any case more imaginary than real – public spending will continue to increase each year for the next four years, according to the government budget) and inequity have nothing to do with what’s been taking place in London (and now other UK cities as well). The criminal gangs of looters and arsonists are not victims of the economy or society; they are worthless, feral thugs who never had any interest in honest work, choosing instead to live off welfare and proceeds of crime.

That they – and many millions more – have been allowed to make such life choices, paid for by one of the world’s highest tax rates imposed on the hard working and productive Britons, is a consequence of the suicidal policies the UK has adopted in recent decades. Britain has bred (and imported) a vast underclass of savages and degenerates lacking any moral values, oblivious to ideas of hard work and social obligation, ingrained with a sense of entitlement with zero responsibility, and indulged in instant gratification.

Such people should have no place in a civilized society. But then, the UK can no longer claim to be one. It is a crumbling nation that has slowly but surely been descending into utter madness, with its celebration of moral inversion, non-judgmentalism, tolerance for the intolerable, support and protection of all that is evil, criminal, ugly and destructive. What we’re seeing in London is the product of a self-indulged, decaying society lacking any moral codes and sanctions or penalties for unacceptable behavior.

Unsurprisingly, even staring reality in the face (in the form of torched buildings, burnt out cars, wrecked buses, Molotov cocktails, and looting gangs) is apparently not enough to wake people from their carefully constructed delusions. The escalating violence has – predictably – brought out a growing army of apologists reveling in an orgy of excuse-making for the widespread lawlessness and violence.

There are also those who blame the feral violence and mass thuggery on alleged police brutality and – what else? – ‘racism’. The police certainly have plenty to answer for. They could start by explaining why they have been standing aside, allowing wholesale looting and violence in broad daylight. Their lack of intervention led to a complete breakdown of order, sending out a message that gangsters can act with brazen impunity. From there it was only a matter of time for the attacks to spread across the capital (and now other UK cities).

The British police, courts and justice system have long been a joke, going out of their way to protect and appease law-breakers, while denying both support and any right to self-defense to the victimized, law-abiding citizens whom they unleash the criminals on. It is the soft policing approach coupled with laughable sentencing (no incarceration even for serial violent offenders) and focus on the ‘human rights’ of the perpetrator that are partly responsible for the plight of all those who were made homeless, had their businesses destroyed and their lives ruined over the last three days (and counting).

Then there is the pervasive culture of political correctness that has, over the years, fatally wounded all British institutions, police force including. That the police made little attempt to restore order in the streets or intervene as looters were lining up to plunder stores and torch buildings has much to do with the ‘sensitivities’ of the minority population. For years police have been trained to be oversensitive to issues of race and to gently ‘engage’ and ‘reach out’ to those who use imaginary discrimination and grievances as excuse for criminal behavior. Police, much as everyone else in the UK, are paralyzed by fear of being called racist. It’s safer for their career to stand aside when it comes to minorities’ crime.

The Hate Crime guide published by the Association of Chief Police Officers in 2002, and periodically updated, dismissed the strict impartiality principle on the basis that impartial justice was unfair; “colour blind” policing – described as “policing that purports to treat everyone in the same way” was deemed flawed and unjust because it “fails to take account of the fact that different people have different reactions and different needs. Failure to recognise and understand these means failure to deliver services appropriate to needs and an inability to protect people irrespective of their background.” Officers who practiced such policing were to expect disciplinary action.)

Years of ‘sensitivity training’, health & safety focus and false priorities (such as being non-threatening, non-confrontational, and non-provocative instead of effective in crime fighting) have also created a new breed of police officers who are simply too cowardly and unable to do what their job requires.

Hence the appalling scenes of police standing by watching violent mobs destroy vast swathes of the capital. Despite the 16,000 officers on the streets, London has descended into chaos, anarchy and brutality, and law-abiding, tax-paying citizens are getting zero protection as their lives and property are being threatened and ruined. The cops, although fully armed and armored, are not reacting (unless one considers retreat an appropriate response) even as teams of young men are throwing rocks and Molotov cocktails at them.

Today, after three days of mayhem, Home Secretary Theresa May ruled out the use of more appropriate tactics: “The way we police in Britain is not through use of water cannon. The way we police in Britain is through consent of communities.“ Not that this comes as a surprise; the elites have long proven to be completely out of touch with the reality of ordinary Britons. After all, Ms May et al don’t have to suffer the consequences of their delusional and evil policies and decisions.

The black community, unwilling to control its youths and happy to tolerate the criminal activities of its members, rarely accepts any responsibility, yet is always eager to voice indignation against the police. The death of Mark Duggan, a North London gang leader allegedly involved in drug dealing and gun crime (but of course praised by some as a leader of his community) was no exception. His killing on August 4, in an apparent shoot-out with officers from Operation Trident (a unit that deals with gun crime in the Afro-Caribbean communities) sparked a protest rally that soon escalated into demands for vengeance and the mass violence that has now spread across London, Birmingham, Bristol, Liverpool, Nottingham and Manchester.

If Britain was a civilized country with its priorities right, the police would have stepped in immediately and with full force, arresting every looter, arsonist and gang member. Were the police unable to do so, the army should have been sent in to wipe out the scum.

But of course this being a ‘caring’ and ‘compassionate’ nation (instead of say zero tolerance, low crime Singapore or Japan), David Cameron et al will instead continue to spout their touchy-feely “hug a hoodie” garbage and throw billions more on ‘disadvantaged’ and ‘disenfranchised’ special groups. Meanwhile, the country will keep spiraling down into the depths of moral and spiritual poverty and degeneracy.

And if London’s burning now, just wait to see what happens in the coming years, once the economy collapses and the welfare checks stop coming. If you happen to live in the UK and haven’t left yet (as I thankfully did earlier this year), better start preparing for war.

The Dubai and Greek crises have forced investors to pay attention to something long ignored – rising sovereign risk. According to this week’s reports, Dubai is trying to settle debts for 60 cents on the dollar. Meanwhile, there has been no real progress in the unfolding Greek debt crisis.

Given the scale of fiscal deterioration in much of the developed world, the trouble is unlikely to end with Greece. For now, however, this looks like a mainly EU-specific problem.

Germany is, for the moment, unwilling to talk about bailouts, and demands austerity measures from the Greek government. EU finance ministers stated Athens must comply with austerity demands within 30 days or risk losing control over its own tax and spend policies. But the truth is, the EU has no real enforcement mechanism, and Greece knows it.

The Greek government promised to reduce its fiscal deficit to 2.8% of GDP by 2012, and to under 9% by the end of this year. However, the EU authorities are fooling themselves into believing this to be possible – current Greek deficit is 12.7% (and that is only the official figure; Greece has forged data before). Due to both political and economic reasons chances of Greece meeting such targets are near zero. The Greek population is largely against austerity (and keen to express it via crippling strikes and riots), making it highly unlikely that the socialist Papandreou government will be able to enforce any meaningful measures.

Some 95% of Greek debt is held by a number of large European banks, so a Greek default would most likely spark a massive bank crisis in Europe. The contagion would inevitably spread to Portugal, Spain, Italy, Ireland and possibly other countries. But even if Greece is bailed out, it will unlikely meet the conditions that will come attached to a bailout, hence just kicking the problem down the road for another while.

And of course the problem is much larger than just Greece. Fundamentals are very poor across much of the eurozone, meaning that a number of countries could easily follow Greece down.

The root of the problem is the one-size-fits-all monetary policy of the euro. The monetary policy set for the centre (Germany, France) was always going to be inappropriate for the economies of the periphery. Instead of adopting stricter fiscal discipline (since monetary and exchange rate policy was no longer in their control), Greece, Spain, Portugal etc used the extremely low interest rates and high credit rating they gained access to thanks to the EMU to go on a long, wild spending spree. The cheap credit fueled housing bubbles as well as ever growing public sectors and generous welfare systems. It was inevitable that the day of reckoning would come.

Southern Europe’s competitiveness has also declined sharply as these countries joined the eurozone with an exchange rate that overvalued their currencies, raising the cost of labour.

The fiscally precarious states benefited from low rates because, in the eyes of investors, their bonds enjoyed an implicit guarantee of the stronger eurozone members. Once investors finally started paying attention to their fiscal situation, and to the risk of Greece being let to fail, the spreads between German Bunds and Greek bonds have widened considerably, increasing the country’s debt servicing costs.

In a staggering display of self-delusion the Greek prime minister said yesterday that Greece wants to be able to borrow on the same terms as other eurozone countries. I suppose we shouldn’t be surprised at such misguided sense of entitlement; entitlement, after all, is the theme of our times. Papandreou also stated “it is a fallacy to say the Greeks are reckless”. Yes, Greeks indeed are the model of prudence and their current fiscal mess and the fact they have been in default for 105 years out of the last 200 should just be ignored by the markets (or ‘socially useless’ speculators in modern day political speech).

Although distrusting Greece’s willingness and ability to reduce deficit, the markets, for the moment, continue to believe in an eventual bailout. Should it start looking like there will be no such thing after all, the spreads on Greek debt would dramatically expand and most likely push Greece into default.

Yet the fiscally responsible Germans have little appetite for bailing out Greece. A bailout, in their view, would destroy EU’s monetary (and any remaining fiscal) discipline and undermine the credibility of the euro. Not to mention that it would not solve the structural problems facing the eurozone. Since German taxpayers are hardly going to be willing to open their wallets to the profligate states every time there is a crisis, a bailout of Greece may only bring closer an eventual break-up of the EMU.

Having said that, German banks have massive exposure to Spanish, Irish, Italian and, to a lesser extent, Greek and Portuguese debt – to the tune of some 523 billion euros. Germany will undoubtedly take that into consideration when deciding on bailing Greece out or letting it fail.

So what are the options for Greece? The traditional remedy would be currency devaluation, but eurozone members don’t have such luxury. Control over their monetary policy is in the hands of the European Central Bank (ECB).

The most prudent thing for Greece would be to undertake the severe budget cuts necessary to get its fiscal deficit down to 3% of GDP over the next few years. Such extraordinary fiscal tightening would result in a few years of declining GDP and high unemployment. There is not much indication that Greek voters are even remotely considering taking a few years of pain (austerity & recession) for a future gain.

Another option is default, which would reduce the debt burden but also result in a severe and long recession/depression. Government spending would be cut drastically and immediately since Greece wouldn’t be able to borrow for quite some time. Finally, Greece could also decide to leave the eurozone, go back to drachma and, in effect, devalue its debt. It would make the country more competitive. Of course their borrowing costs would also soar. However, this appears to be the least likely path for Greece to take.

Essentially, Greece and the Greek voters should be given two choices: take the pain and make the necessary cuts or leave the EU. This would leave the decision in the hands of the Greek people, avoiding further cries of them being stripped of their sovereignty, and it would ultimately be better for EU’s monetary and fiscal discipline than a bailout and the moral hazards that come with it.

After all, Greece is not eurozone’s only problem. Budget deficits have reached unprecedented proportions in many EU countries. Concerns about the weak fundamentals and the state of public finances in Portugal, Spain, Italy, Ireland, the UK are evident in the financial markets, with rising sovereign bond yields and sliding euro.

Portugal’s and Spain’s external debt position is worse than that of Greece; their household debt is also considerably higher. Spain, apart from a nearly 10% deficit, has unemployment close to 20% and a banking system weighted down by a massive amount of overvalued real estate. Oh, and the socialist Zapatero government is not any more likely to be able and willing to cut spending than the Greeks. Italy’s and Ireland’s external debt obligations as well as GDP and unemployment rates are also worse than those of Greece. So while the markets’ focus is primarily on Greece, contagion is a very real threat. And not even Germany has the finances to bail out the likes of Spain. Given its size, a full blown fiscal crisis (or default) in Spain would most likely be the death of the euro.

The eurozone governments have to borrow approx 2.2 trillion euros from the capital markets this year to finance their budget deficits (Greece needs some 60 billion just to make it through the year); it won’t be an easy task. A wider fiscal crisis in Europe appears increasingly likely.

Yet ballooning national debts, out of control deficits and rising sovereign risks are not just a European issue. Most advanced economies have huge fiscal problems. The IMF projects the G20 government debt/GDP ratio to reach 118% by 2014. This will severely constrain economic growth.

A recent study by Carmen Reinhart and Kenneth Rogoff (‘Growth in a Time of Debt’) found that “the relationship between government debt and real GDP growth is weak for debt/GDP ratios below a threshold of 90 percent of GDP. Above 90 percent, median growth rates fall by one percent, and average growth falls considerably more.”

The following chart shows the public debt to GDP ratios across the world.

(And let’s not forget the true public debt/GDP levels are several times higher then the explicit figures that exclude massive unfunded liabilities for public pensions, healthcare, social security.)

Consider also the high government spending as a percentage of GDP in many advanced economies today, which causes a further drag on growth, and you get a future of slow economic growth and high unemployment. (In Greece, as well as the US, UK and other countries government spending now makes for approx 50% of GDP.)

The fiscal deterioration will become worse still due to the massive demographic challenges in the developed world. The IMF estimates that increased health spending and other costs related to aging population will drive debt to GDP levels of advanced economies up by a further 50% over the next 20 years.

We will therefore see a significantly higher economic growth in low debt, and most likely sluggish growth in high debt economies such as the UK, US, much of the eurozone and Japan. (A strong rise in government bond yields of much of the developed world is also inevitable.)

But it’s not just government debt. There’s too much debt everywhere, including in the private sector (although the private sector has started deleveraging, while the public sector increased leverage). Total debt is highest in Japan at 459% of GDP and the UK at 469% of GDP (or 380% if adjusted to reflect UK’s position as a financial hub). Spain follows in the third place at 342% (in Greece total private-public debt stands at around 225% of GDP).  

Over the next decade sovereign debt crises and defaults seem inevitable. Those countries that can resort to the printing presses will take the path of a massive monetization of debt, hence reducing their debts through severe inflation. That is the most likely outcome in the US and UK. (Clearly, paying our debts back in devalued currency is simply default by another name.)

Of course the most desirable way to address the budget problems would be by radical spending cuts. The scale of fiscal tightening necessary to return to healthier debt levels would cause a medium-term drag on growth. But not reducing debt will ultimately have much greater consequences.

However, chances we will witness drastic spending cuts in the UK, US and across the eurozone in the next few years are rather slim. The culture of entitlement has made it near impossible to talk about the hard facts. Our political elites will continue to ignore the fact that the bloated welfare states have become unsustainable and we can no longer afford them. The reason is simple – it’s not what the voters want to hear. Instead of acknowledging painful reality and the need to make sacrifices, we prefer to keep kicking the problems into the future. Until the inevitable day of reckoning comes.

Indeed the developments in the US and UK are not at all encouraging.

The Obama administration is determined not to waste a good crisis and continues to focus on a massive expansion of government. Instead of letting the free markets work and acknowledging that it’s the private sector that creates wealth and will be the engine of growth, the political leaders on both sides of the Atlantic show an enormous zeal to meddle in the free markets and reinvent and fix what wasn’t broken.

Redistribution of wealth via tax hikes (as well as introduction of entirely new taxes), a ruinous healthcare reform, expensive energy and climate change legislation, pro-union policies, excessive and ill thought-out regulation… Obama has shown a deep lack of understanding (and indeed contempt) of private business and a determination to socialize the US economy.

And while the productive part of the economy is being hammered, the public sector has been enjoying an unprecedented boom. In 1902 total US government spending was approx 7% of GDP. In 1928 it came to just over 10%; two thirds of that was state and local and just 3% was federal spending (about the same as 150 years earlier, excluding increases during war periods). Government spending has since exploded, making for more than 40% of GDP – two thirds of that being federal expenditure. Public spending increases in 2009 alone came to well over $1 trillion, a rise of more than 20% from 2008.

The UK has fared even worse, with government spending increasing from about 36% of GDP to almost 55%, putting increasing pressure on the dwindling productive segment of the economy.

The following chart from the Wall Street Journal shows the shocking and unsustainable spending explosion. US government spending has grown seven times as much in real terms as median household income over the last 40 years!

And, just as in the UK, employment and compensation in the public sector have continued to increase while the private sector has taken the pain. (Public workers not only enjoy far higher wages than their private sector counterparts but also benefit from extremely generous pensions. These largely unfunded public sector pension liabilities will naturally just serve as further drag on economic growth for many decades to come.)

As the following chart from the Business Insider shows, the US has gone from producing jobs in wealth creating private industries to jobs in the wealth destroying government sector. By the end of 2007 the total number of government jobs exceeded the total number of goods producing jobs.

Indeed, whether we look at the public sector gorging itself at the expense of the private sector, or the widespread culture of entitlement and welfare state (at the expense of the dwindling numbers of hard working taxpayers), this is what has come to characterize our time: enabling the unproductive and lazy to steal from the productive and enterprising. Otherwise called socialism.

So what is being done? Do we see any plans for serious fiscal tightening and debt reduction? Quite the opposite, our leaders seem to be enjoying a rather long vacation from reality.

Obama (and Gordon Brown) have apparently not been listening to Reinhart and Rogoff, or they wouldn’t be attempting to solve our problems by issuing yet more debt.

Perhaps we shouldn’t be too surprised that debt reduction doesn’t seem to be our policy makers’ priority. Indeed, one might think our extreme indebtedness is nothing more than a minor nuisance. Neither our political elites nor the central bankers and leading economists appear to grasp the obvious: that years of cheap, excessive credit and high debt were precisely what got us into trouble. And yet we’re still happily continuing on the same path.

In only three years the Obama administration will have increased the national debt by some $4.35 trillion. (And that excludes the huge deficits of off-budget programs like Medicare, Medicaid, social security.) The budget freeze proposed by the administration for 2011 is projected to save some $15 billion (or about 0.4% of the total budget, a drop in the ocean). Note that it’s merely a budget freeze, not a cut in nominal terms. Worse still, the the vast majority of federal programs (incl. Medicare, Medicaid, social security, military, homeland security etc) are to be exempt from the freeze.

It should be obvious that the US won’t get its debt under control unless it sharply reduces government spending, including on health and pensions that have simply become unaffordable. The US is not much behind Britain and the eurozone when it comes to the horrific shape of public finances. The only advantage, for now, is the dollar’s status as the world’s reserve currency (and of course the country’s control over its own monetary policy).

But that doesn’t change the basic fact – you cannot spend your way out of a fiscal crisis. The current path is unsustainable. The Obama prescription of more debt, more spending and more taxes is a triple ticket to ruin, plain and simple.

But, it would be unfair to focus solely on the US, for here in Britain we are in an even greater mess.

The UK has not only the world’s highest total debt/GDP (along with Japan) but also one of the worst budget deficits at 12.6% of GDP. (According to OECD, only Iceland and Greece have higher deficits, at 15.7% and 12.7%, respectively. The UK is expected to post a 12.8-13% deficit this year, overtaking Greece.)

The speed of the debt run-up has been nothing short of alarming. Unsurprisingly, Britain is already paying higher interest rates to borrow than Spain or Italy. While the yields on gilts have recently risen significantly, they are heading far higher – as soon as the markets start taking a look at other basket-case economies aside of Greece. The pound has fallen by some 25% vs the dollar, and has much further to go unless the markets start seeing some credible solutions from Britain.

Yet there is no political will to face the excessive debt, no meaningful plans for deficit reduction. Gordon Brown’s government has rejected any idea of implementing spending cuts in 2010/2011. And the opposition? David Cameron said spending cuts during the early part of a Conservative government wouldn’t be ‘particularly extensive’.

Government spending has exploded over the 13 years of Labour governments and is now completely out of control. But one would look in vain for austerity measures and severe fiscal tightening, not just from Labour, but also from the (so-called) Conservatives.

The micro-cuts that both the government and the Tories are proposing will not even make a dent in the monstrous amount of public spending. The pledges to ring-fence all main areas of spending, including the wasteful, bureaucratic and inefficient NHS, instantly expose any deficit reduction plans as lacking of credibility.

What remains are tax raises. As if Gordon Brown’s hike of higher earner income tax from 40% to 50% (or 62% once national insurance contributions are added on) wasn’t bad enough, further tax increases are likely on the way. All that (along with the insanity of the additional 50% bonus tax) will only achieve one thing – further damage to the dwindling private sector already suffocated by a gargantuan web of high taxes, red tape, hostile regulation and uncertain political environment.

From Labour’s point of view, there is no harm in further undermining the only economically productive part of the economy. Expansion of government and redistribution of wealth are the objectives. What Brown and Obama have in common is their disdain for and antagonism toward anyone earning (or striving to earn) a decent income, and the desire to redistribute from the hard working and productive to the idle and unproductive.

It matters little which party wins the upcoming general elections; all three of the country’s main political parties have fully embraced ‘progressive’ (read socialist) ideas. A Tory victory may be slightly less disastrous than another Labour term, but nothing that the party is offering will set Britain onto the right path.

And the people have only themselves to blame. Thanks to the vast expansion of government too many millions are now enjoying an idle life of welfare-dependency. Add the millions more in public sector jobs with their high wages and appallingly generous pensions, and it is little wonder that politicians are unwilling to do anything that would anger the majority of the voters.

We have become a society with an overwhelming sense of entitlement – at the expense of those who still believe in self-reliance and hard work, only to see their wealth stolen by the parasites. This unsustainable situation will inevitably blow up, and deservedly so. Only then will a new cycle be able to start. And perhaps, just perhaps, we will even witness a return to common sense one day – as in smaller government, less interference in the free markets and the productive sector, less dependency and more self-reliance.

But in the meantime, as public debt is becoming a crushing burden on most developed economies, the only thing that appears certain is a widespread sovereign debt crisis (and defaults) a few years from now.

Chancellor Alistair Darling unveiled his politically motivated pre-budget report today. Let’s look at the details.

Bonus super-tax and new higher earner taxes

A new temporary super-tax on bank bonuses comes into effect immediately. Banks (incl. UK subsidiaries of foreign banks) will pay 50% tax on bonuses over £25,000 (to include shares, options and temporary salary increases). The bankers will of course then still be hit with the new 50% income tax on earnings.

The bonus tax is estimated to raise just £550 million in revenue, so it’s clearly just a populist measure for Brown’s semi-socialist government to grab votes. Bankers are an easy target and the recent witch hunt has been entirely in tune with Labour’s politics of envy and class war.

Thousands more of higher earners will also be hit with the new 50% income tax rate as it is widened to include not only pay but also pensions. In essence it was extended to those earning £130,000 or more.

Middle class tax grab

But it’s not just higher earners who will suffer the consequences of Labour’s mismanagement of public finances and the economy.

The threshold for higher-rate (40%) income tax will be frozen. That means people earning just £43,000 will pay more tax, costing workers £400 million a year.

And, in an additional massive middle class tax grab, the announced National Insurance (NI; income tax in all but name) rise will hit anyone earning £20,000 a year or more.

At present 11% of workers’ wages go toward National Insurance. From 2011 NI contributions will go up to 12% for all workers earning more than £20,000 a year. Those on more than £44,000 also face a second hit, paying 2% rather than 1% on their pay above that threshold. The increase in NI is to raise £4.5 billion a year from 2011/12.

On top of the employee contributions, the employers pay 12.8% of their workers’ salaries in NI contributions. This will increase to 13.8%. The raise of NI is a tax on jobs, pure and simple. And it comes at the time when UK’s economic recovery is incredibly fragile.

Finally, the inheritance tax threshold will be frozen at £325,000, rather than raised to £350,000 as previously promised.

Balancing the budget?

Darling expects GDP to drop by 4.7% in 2009, the worst peacetime performance since 1921. (His last prediction earlier this year was of 3.5%.) He expects the economy to grow by 1-1.5% in 2010 and 3.75% in 2011 – extremely optimistic figures and likely to be proven wrong, as so many of his past forecasts.

The pre-budget report shows plans to borrow nearly £800 billion over 6 years, taking the 2014/15 national debt to just under £1.5 trillion. Of course the real number is far higher, as the government figures do not include the public sector pensions deficit estimated at £1.2 trillion.

In a further upward revision of earlier forecasts, the government will, in 2009/10, spend £178 billion more than it receives in tax – equal to 12.6% of GDP. Next year, the deficit is estimated at £176 billion.

The Chancellor aims to cut UK’s deficit to 5.5% of GDP by 2013-14. However, we’re yet to see any clear and viable plan for that to be achieved. Britain’s credibility and credit rating depend on that, so let’s see what Darling proposes to do to cut spending.

Where are the much needed public spending cuts?

While Ireland is slashing spending – by way of benefit and public sector pay cuts – to the tune of 4 billion euro, you would be hard pressed to find many meaningful measures in Darling’s pre-budget report. (Irish budget deficit of around 12% is comparable with that of the UK.)

The Chancellor plans to impose a 1% cap on public sector pay rises (as opposed to the Irish 6% cuts in public sector wages and up to 20% for highest earning public servants) for two years. Even that is postponed until 2011. From 2012, government contributions to public sector pensions will be frozen.

Worse still, the Chancellor insisted key services will be safe and ring fenced. NHS, schools, police are guaranteed to see their budgets rise at least in line with inflation.

VAT will return to 17.5% from 1 January 2010, as expected.

Cuts? It’s more spending instead!

While any sensible observer might have expected severe spending cuts in a country on the verge of bankruptcy, Darling has laid out Labour’s plans for 2010 and beyond: tax more and spend more.

To please the party’s core voters, child and disability benefits will be increased by 1.5% from next April. Basic state pension will be raised by 2.5%. And, bizarrely, bingo tax will be cut. In fact, Labour will be spending an extra £7.7 billion in 2011/12 and £6.9 billion the following year.

Conclusion

So there we have it. Instead of much needed spending cuts, more taxes. Instead of significantly paring back the gargantuan public sector (yes, including welfare and the bureaucratic, inefficient NHS), the government chooses to heavily penalize middle and higher rate tax payers.

The increase in NI contributions means it will be more expensive to keep and hire workers. Hardly a sensible move when economic recovery is closely tied with job creation.

The pointless and harmful bonus super-tax will not generate revenues, but, just as the previously announced, vengeful 50% income tax, is sending the wrong message. Uncertainty – and the notion that everything is up for grabs – will make businesses and enterprising individuals think twice before coming to (or staying in) London.

The top 10% of earners already pay 54% of income tax and the top 1% pay 24%. But, no matter how much they are milked, it’s never enough for a socialist wealth redistribution agenda. From 2010 the UK will have one of the highest tax rates in the world. The state grabbing more than half of what the wealth- and job-creators make is certainly not a motivation to be ambitious and successful. And the paltry £500 million revenue is hardly worth the billions in investments and taxes the UK and the City of London is likely to lose as a consequence.

UK’s economic success depends on entrepreneurs, highly skilled workers, as well as a profitable financial services industry. Yet the signal the government is sending, by labeling such people as elitist & (bad) “rich” and imposing punitive taxation, is that the country neither values nor wants them here. And they may well listen, choosing a more welcoming destination for their efforts and money.